DOCUMENT RESUME

ED 319 559 RC 017 531

AUTHOR Goldsmith, Oliver Scott; And OthersTITLE Facts and Fables of State Spending. ISER Fiscal

Policy Papers. No. 2.INSTITUTION Alaska Univ., Anchorage. Inst. of Social and Economic

Research.PUB DATE Oct 89NOTE 17p.; Series financed by a grant from ARCO Alaska.PUB TYPE Reports - Research/Technical (143)

EDRS PRICE MF01/PC01 Plus Postage.DESCRIPTORS *Budgeting; *Budgets; Financial Policy; Fiscal

Capacity; Full State Funding; Resource Allocation;*State Government; *Statewide Planning

IDENTIFIERS Alaska; Alaskan Pipeline; *Revenue Shortfall

ABSTRACT

Alaska became suddenly and surprisingly rich in theearly 1980s, with oil revenues from Prudhoe Bay paying for almost allstate operations, picking up some of the costs of local government,creating a huge state savings account, paying all Alaskans annualcash dividends, and eliminating the need for state personal incometaxes. The smaller projected petroleum revenues of the 1990s willmean cutting the state's budget. To make budget decisions, Alaskansneed to know how the state actually spent its money in the 1980s, andthey need to keep in mind that before the oil riches, Alaska's stategovernment spending was two to three times the national average.Other factors to consider are the doubling of population between 1967and 1987 and inflation that nearly tripled prices. The gap betweenAlaska's state spending and the average for other states widened inthe 1980s because, with its increased revenues, Alaska (1) expandedexisting programs; (2) delivered services in more expensive ways; (3)

added many new kinds of spending; and (4) increased wages of publicemployees. These steps created economic and political forces thatwill complicate balancing the state's budget. This paper reveals thefacts and discloses the fables about how the state spent $34 billionin the 1980s, and it assesses how those facts will make budgetcutting tough. The analysis is in three part (1) The Prudhoe BayRide; (2) Myths and Realities; and (3) Between a Rock and a HardPlace. One table and 10 figures outline the fiscal history ofAlaska's oilrich years and project its future. (ALL)

***********************************************************************

Reproductions supplied by EDRS are the best that can be madefrom the original document.

***********************************************************************

.`

TO THE EDUCATIONAL RESOURCESINFORMATION CENTER (ERIC)."

"PERMISSION TO REPRODUCE THISMATERIAL HAS BEEN GRANTED BY

UNI /I bp 1-A SXA

A nchoyel e

Cr)

U.S. OEPARTMENT OF EDUCATIONOffice ot Educational Research and tmprovemant

E0rICATIONAL RESOURCES INFORMATIONCENTER (ERIC)

/Trim document has been reproduced asreceived from the person or organizatronorigrnating it

0 Minor changes have been made to improvereproduction Quality

ISER Points of view or oPnions stand in this dodoment do not necessarily represent offrcialOERI position ot policy

FISCAL POLICY PAPERSinstitute .of Social and Econornic.Research University of Alaika Anchorage

Facts and Fables of State SpendingCA Alaska's .state- government was suddenly and

surprisingly rich in-the early 1980s. We qUicklylearned to spend rich.And the best part about ourovernight Wealth was that it came atvirtu4no

l=11--- cost to us aSindividbals.Not only did Oil, revenues from Prudhoe -Bay

development paylhe bill for almost all stateopetations over the. past decade, there wereenough revenues left over to pick up someof thecosts of local governthents, repeal state personalincome taxes, create-a hugestatesavingsaedount,and pay-all Alaskans annual cash dividends.

NoW we're facing the reality of much smallerpetroleum fevenuesin-the next decadesee theadjacent box. Many Alaskans think cutting thestatebudget wilLbelairly easy: we'll just "cut thefat" that-bloated the budget in the 1980s.

But as we'lmake clear in this analysis, cuttingthe budget will by ha theans -be easy. WhatsomeAlaskans regard as spending for "fat" others see asspending foi essential services or entitlements.Many. things contributed to the high-spending ofthe past decade, and whatever is cut from thebudget _will hurt some Alaskans.

To make budget deCisions, Alaskans need toknow how the state actually spent its money in the1980s. Many of the facts abOut high-state spendinghave become Obscured by fables aboutwhere themoney went. This paper reveals the. facts and

_ discloses the fabIeS about state spending in the1980s and assesses how those ,facts

'?"4. budget cutting tough.-4**im

iF t..)

One important point -that tends to get lost in allthe talk about big spending is that even beforeAlaska was oil rich,. our state government spenttwo to three times the average of other states. Sothe increased state spendinz fueled by oilrevenues over the past decade started from a basethat was already substantially above, thatof otherstates.

Also bear in mind' that Alaska's .population

0 $1.0

=$0.6

PROJECTED-STATEFISCALGAP*(Diffeience Between Revenueir

and CUilltrit Spending)

815END,ING LEVEL

cxy(EcrEb.REVE1+1,1JES.030).4.EXISTINO'SNFICES

r.4kriell.if tIritr1000 1006 2000 2006 2010

Adjusted for inflation, state government revenues from existingsources will drop 50 percent between now and 2000, leaving adifference of Si billion between current spending and existing-revenues.Tliat substantial gap can onlybe dosed by spending cuts,tax increases, use of reserves, or same combiriation of the three.

This is the second in a series of ISER Fiscal Policy Papers examiningaspects of state government spending. Weintend these papers to focus the attention of state officials and ofAlaskans in general on the serious budget crisiswe face, and on.the necessity for dealing with it soon.

The - authors are Olivei Scott Goldsmith, Lee Gorsuch, and Linda Leask. Teresa Hull prepared the graphics,and Alexandra Hill and M.L..Madden helped analyze the data.

The ISER Fiscal Pelicy,Papers-series is financed by a grant from ARCO Alaska.

,2 BEST COPY AVAILABLE

Scope of AnalysisMuch of our analysis is just of state spending, but we also look at local spending when appropriate. In Alaska

the state often provides or pays for services that local governments provide for themselves in othe: states, withoutstate aid. The fortunes of Alaska's local governments are very strongly tied to those of the state.

One final note that may be helpful in setting the stage for our spending analysis: there is no absolute measure ofwhat government ought to spend. Generally, governments spend what citizens are willing to pay in taxes. Wealthierstates spend more than poorer states. In this paper we compare Alaska's spending over the past decade with itsown previous spending levels and patterns and with national averages. We aren't implying that those twocomparisons should be the basis for determining future Alaska spending levels. Rather, we use these comparisonsto help put Alaska's 1980s spending in some perspective and to help state officials and Alaskans in general thinkabout what they want to accomplish with the more modest level of resources that will be available in the future.

doubled between 1967 and 1987, and inflationnearly tripled prices. Those factors togethermean state 'spending would have to be six timeslarger today just to keep pace with population andprices. But state spending in 1987 was 16 timesgreater than in 1967 a much larger increase thancan be accounted for by the combination ofpopulation growth and inflation.

The gap between Alaska state spending andthe average for other states widened dramaticallyin the 1980s. Because Alaska had more money tospend it: (1) expanded existing programs; (2)delivered services in more expensive ways; (3)added many new kinds of spending; and (4) in-creased wages of public employees.

Those changes in state spending createdeconomic and political forces that will complicateevery step toward balancing the state budget.Among the many factors state officials will haveto contend with are the importance of statemoney to individuals, municipalities, school dis-tricts, and the entire Alaska economy; the powerof interest groups; the popularity and economicimportance of the Permanent Fund dividend pro-gram and other special benefits; and the unwill-ingness of Alaskans to pay more taxes.

Our analysis is in three parts: (1) The PrudhoeBay Ridethe source of big state spending; (Myths and Realities perspectives on stamspending; and (3) Between A Rock and A HardPlace the difficulties associated with budgetcutting.

The Prudhoe Bay RideThe State of Alaska had a tremendous stroke

of good fortune in 1968, when oil companies dis-covered the 10-billion barrel Prudhoe Bay fieldon state-owned lands on the North Slope.Development of that single oi' field the largestever discovered in North America became

2

responsible for several of the state's economicbooms, culminating with the biggest in the 1980s.

Figure 1 shows the Prudhoe Bay ridepetroleum revenues the state has collected, large-ly from the Prudhoe Bay field over the past 25years.. The figures are in 1988 dollars whicheliminates the effects of inflation and allows us tocompare the buying power of revenues each yearduring that period.

The state leased the Prudhoe Bay field to oilcompanies in a series of sales in the 1960s. Thefinal sale, in 1969 (fiscal 1970), brought the stateits first big petroleum revenues: $900 million($2.4 billion in 1988 dollars). After that sale,Alaska's petroleum revenues returned to modestlevels until the mid-1970s, when construction ofthe trans-Alaska pipeline to carry Prudhoe Bay oilwas nearly complete. Taxes on Prudhoe Bay oilreserves and petroleum-related facilities sharplyboosted state revenues in 1976.

In 1977 oil started flowing through thepipeline, and the state began collecting taxes onand royalties from North Slope production. Soonthereafter the world price of oil tripled. Thistremendous increase in oil prices made the Stateof Alaska wealthy overnight. In just two fiscalyears state revenues tripled, and by fiscal 1982 thestate collected $4.1 billion (or about $4.4 billionin 1938 dollars) in petroleum revenues.

After 1982 oil prices began to slide. Nonethe-less, through 1985 state petroleum revcr.,..ies stillexceeded $3 billion a year. Then came the 1986oil price crash. In fiscal 1987 petroleum revenueswere slashed to just a third of what they had beenin 1985. Oil prices and, correspondingly, statepetroleum revenues, recovered somewhat after1986. Still, for the past few years the state's annualoil revenues have been only about 40 percent ofwhat they were in the peak year of fiscal 1982.

Driving Alaska's fiscal problem is the fact thatexpected revenues from existing sources will con-

3

Figur° 1. Alaska Petroleum RevenuesSelected Fiscal Years 1965-1990

(In 1988 Dollars)

1982: $4.4 bill.

1970: $2.4 bill.

1988: $1.9 bill.

1987: $1.4 bill. 14

1990: $1.7 bill.

tinue to slide, as production from Prudhoe Baydeclines. By 2000, real petroleum revenues areprojected to be just about half of what they aretoday.

Myths and RealitiesWhat did the state do with its petroleum

revenues in the 1980s? Below we expose themyths and discuss the realities surrounding bigstate spending by analyzing it in two ways. Firstwe describe overall state spending from fiscalyears 1981 through 1988 (figures for fiscal year1989 are not yet available) and identify where themoney went and which organizations or in-dividuals benefitted from it. We then examine themuch-diScussed higher Alaska per capita spend-ing, showing where and why it differs so muchfrom the national average. In the course of ourdiscussion we debunk some commonly heldmyths.

Total State Spending, Fiscal Years 1981 -1988

Figure 2 shows that a whopping $34 billion (oraround $36 billion in 198&dollars) passed throughthe state general fund from fiscal years 1981through 1988an average of about $4 billion ayear.

That $34 billion includes not only operatingand capital spending but also some savings andinvestments. The money went for many purposesinside and outside the traditional purview ofgovernment. The list below reveals that not onlydid government programs :fit from therevenue bonanza but so did schools,municipalities, public corporations, non-profitgroups, and not least of all individuals. In fact,two-thirds of the total $34 billion went for pur-poses other than state agency spending. In orderof amounts received, the recipients of the state'slargess were:

1. State Agencies: State agencies themselvesspent about a third of the $34 billion for their ownoperating and capital expenses.

2. Aid to Schools: Alaska's urban and ruralschool districts got 14 percentnearly $5 bil-lionof the total. That includes operating andcapital aid and reimbursement for school con-struction debt.

3. Deposits in Permanent Fund: Not all of the$34 billion was spent. The legislature deposited$2.7 billion of general fund money and another$1.3 billion from the Undistributed Income Ac,count into the Permanent Fund. These depositsof more than $4 billion accounted for 12percentof total spending and were in addition to $2.8billion that went directly into the PermanentFund as required by the Alaska constitution.

4. Aid to Municipalities: Alaska's local govern-ments were on the receiving end of about $3.4billion in state operating and capital aid about10 percent of the $34 billion. State grants forcapital projects were by far the biggest part of thataid.

5. Transfers to Public Corporations: The st..te'spublic corporations which are quasi-state agen-cies that do everything from subsidize homemortgage interest rates to build damsreceived

3 _4

Figure 2. Total State Spendinga

State Agencies

Aid to Schools

Deposits in PF b

Aid to Munis

Transfers/Pub Corps

Distributions to Inds

Perm Fund Dividends

University of AK

Loan Fund Transfers

Debt Service

One-Time Expenses

Other Grants & Prgms

FY1981-1988

$11.9 billion

$4.8

$3.4"

6

4%

3%

$:9 3%

a6 2%

32%

Total: $34 BILLION

a Consists primarily of de ner a I fund expenditures, but also includes some transportationand education expenditures from other funds and $1.3 billion transferred from theUndistributed Income Account to the principal of the Permanent Fund.

b In addition to the Permanent Fund deposits mandated by the Alaska constitution.c Excluding Permanent Fund Dividends.

more than $2 billion, or 6 percent, of the $34billion. These transfers to public corporationsrepresent an investment, increasing the assets ofthe corporations. It is beyond the scope of thisanalysis to determine the current value of thoseinvestments. While there have been some sig-nificant investment losses, the corporations con-tinue to hold substantial state-financed assets.

6. Distributions to Individuals: Individual Alas-kans collected nearly $2 billion or 6 percent ofthe total in cash or services through programsother than the Permanent Fund dividend pro-grain. Included among these distributionprograms are the state's welfare programs, theLongevity Bonus program, and others.

7. Permanent Fund Dividend Program: Thisprograrh alone paid Alaskans nearly as much asall the other state distribution programs com-bined in the 1980s $1.7 billion between fiscalyears 1983 and 1988. Distributed dividendsamounted to 5 percent of the .total $34 billion inexpenditures.

4

8. University of Alaska: The statewide univer-sity system received $1.4 billion in operating andcapital funds from 1981 through 1988. That isabout 4 percent of total state spending duringthat per:od.

9. Transfers to Loan Funds: Funds that loanedmoney to students, farmers, fishermen, andothers received $1.2 billion, or 4 percent, of stategeneral fund money between 1981 and 1988. Thismoney did not represent straightforward spend-ing, because the state expects recipients to re-paythe loans. However, the amount that may ul-timately be available to the state for other pur-poses is uncertain.

10. Debt Service: Debt service on just stategeneral obligation bonds excluding massivebonded debt held by the state's public corpora-tions cost Alaska about $1.2 billion, or about 3percent, of total spending in the 1980s.

11. One-Time Expenses: One-time special ex-penses cost the state about 3 percent of the $34

5

Measuring State SpendingReports of government spending often don't match. That happens because there are many ways to measure

government spending. Among the most common measures are:Appropriations: An appropriation is an amount government officials have approved for spending, but haven't

actually spent.Expenditures: An expenditure is an amount dispensed ann a government account. Expenditures are mostly

amounts actually spent,but they can also include amounts that are simply transferred from one government accountto another.

Outlays: An outlay is an amount that actually leaves all government accounts*.Here's an example to illustrate differences in these three measures. A state appropriation for local government

assistance becomes a state expenditure when the funds are transferred to local governments. Those transfers tolocal government become government outlays only when the local governments actually spend the money forintended purposes.

The timing of spending is an important difference among these three measures. Most operating expendituresand outlays do occur in the same fiscal year they are authorized by appropriations. However, the lag betweensomeappropriations and expenditures can often exceed a year, particularly for capital projects, and the delay betweenexpenditures and outlays can also be long. For example, in the early 1980s the state appropriated such large amountsfor capital projects that it was impoSsible to expend it all in the year in which itwas appropriated. Another kind ofcomplication is that an amount the state records as an expenditure may not show up as an outlay. In the early 1980s,for instance, the state legislature appropriated $2.7 billion to the Permanent Fund, and that transferwas recordedas a State expenditure. But it has never become an outlay because the money is still in the Permanent Fund. Anotherdifference in the measures is that appropriations don't always result in expenditures because there may be ashortfall of revenues or a change of policy.

What We Use: In this paper we use both government expenditures and outlays, because using twomeasuresgives us a more complete picture of Alaska state and local government spending.

We use ISER's own calculations of total state general fund expenditures during the 1980s, to provide a fullpicture of where about $34 billion went from fiscal years 1981 through 1988. Not all of that money, becameoutlayssome went for special appropriations to the Permanent Fund, some went to public corporations, andsome went to loan funds. More detailed information on these expenditures is available in the ISER publicationAlaska Review of Social and Economic Conditions, "Where Have All the Billions Gone?" (February 1987) and theupdate, Research Summary No. 41 (February 1989).

The second source we use is the U.S. Department of Commerce's record of state and local outlays, reportedannually in Governmental Finances. That source allows us to compare outlays of Alaska's state and local govern-ments with those of other states. Virtually all comparisons of spending among states use this source. Because someaspects of Alaska spending are difficult to compare with national averages, we have made some adjustments in thefigures to make the comparisons more accurate. The major adjustment we made was to exclude from outlays thevery large interest payments on bonded debt of public corporations for Alaska, this is primarily debt of the AlaskaHousing Finance Corporation. In the federal reports, these interest payments are not identified as being paid fromfunds of the corporations. Including these interest paymentswhich do notcome out of general revenues distortsspending comparisons both with previous Alaska levels and with national averages.

billion. The biggest of these expenses were a $295million payment the state owed Alaska Nativecorporations, and $160 million refunded to in-dividual Alaskans when the personal income taxwas repealed.

12. Miscellaneous Grants and Programs: Non-profit corporations and others providing variouskinds of services collected around $600 million,or 2 percent, of total spending from 1981 through1988. (Such organizations received additionalstate money through state agencies as well.)

5

Spending and Employment Changes, 1967-1987

Now that we've seen how much of total spend-ing went to various recipients LI the 1980s, werefute some spending myths by looking at chang-ing levels and compositions of state and localspending and employment over the past 20 years.

Figure 3 is a complex graphic that shoWsseveral things about Alaska spending per capitarelative to the average of other states in 1967,1977, and 1987. The figure tells us: (1) how muchmore we spent than the U.S. average in each ofthose years; (2) how much Alaska's higher costscontributed to those differences; and (3) how the

6

composition of the extra Alaska spendingchanged over time.

Because Figure 3 is complex, we use Table 1 tohelp clarify the information it presents. Table 1simply repeats the U.S.-Alaska spending ratiosand the changing composition of Alaska's extraspending from 1967 through 1987 so the readercan more readily see the changes.

The bars for each year in Figure 3 show totalAlaska per capita state spending so, for ex-ample, in 1967 Alaska's state government spent$742 per resident. The bottom portion of the barshows the average spending per capita among allstates again, in 1967, the U.S. average per capitaspending among state governments was $265.

To fin the difference between Alaska andJ.S. average state spending, we could just divide$742 by $265 which would indicate that Alaskastate spending was 2.8 times the national averagethat year. This is the unadjusted ratio of Alaska toU.S. average spending per capita. But because weknow that costs in Alaska are higher, we need tosubtract that portion of Alaska spending thatgoesjust to pay higher costs, so we can compare realbuying power.

The part of the bar just above the U.S. average,labeled COLA (cost-of-living adjustment), is theportion of Alaska state spending we estimate isnecessary to buy in Alaska the same bundle ofgoods and services state governments in theLower 48 provide. If Alaska only provided thesame things other state governments provide, thatwould be the only cost adjustment we would haveto make.

We know, however, that Alaska's state govern-ment provides things other states don't and

those extras (labeled "Extra Spending" on thebars) also cost more to buy here than they wouldin other states. So we make a second cost adjust-ment which is that portion of the Alaska-U.S.differential that the state spends just because theextra goods and services it provides cosi morehere than they would in other states. That secondcost adjustment (COLA) is shown at the top ofthe bar.

This adjusted measure of how much govern-ment Alaska provides offers the better com-parison, because it leaves out the differences thatare solely due to Alaska's higher prices. With thetwo cost-of-living adjustments, we can see thatAlaska state spending in 1967 was 1.8 times thenational average ($742-$117-$141)/$265 = 1.8.

Although a single year can't perfectly reflectthe spending pattern of a decade, we picked 1967and 1977 to contrast with 1987 because thoseearlier years show spending before Prudhoe Baywas discovered and during the pipeline construc-tion boom. While spending was somewhat lowerin 1987 than it had been earlier in the decade, webelieve it still provides a good representation ofspending in the 1980s. (Comparable figures for1988 and 1989 are not yet available.)

In addition to Figure 3 and Table 1, we useFigures 4 through 9 to tell a story: the story of whathappened to state and local spending over the last20 years.

Text continued on page 8.

Table 1Per Capita Alaska State Spending Compared to U.S. Average

FiscalYear

UnadjustedSpending

Ratio

AdjustedSpending

Ratio Capital Payroll

Composition of Extra Spending

LocalOthers Transfers Interest

PermanentFund

Dividene

1967 2.8 1.8 49% 36% 14% Ob% 1% 0%

1977 3.1 2.1 34 36 19 6 4 0

1987 4.0 3.1 12 23 25 23 1 16

°Other current expenses include spending for ptvgrams unique to Alaska and extra spending for programs common to other states.bin FY67 Alaska spent 30% less on transfers to local governments than the average of other states.

6 7

Figure 3. Coinposition of Alaska State Spending Per Capita(Nominal Dollars)

Alaska Total$742 Other

Current------------------------ $56 14%COLA $117

ExtraSpending $219

COLA $141

US Average $265

1967

Alaska's Extra Spending* $336

Payroll$138 36%

Unadjusted Spending Ratio, Alaska-US 742/265 = 2.8Adjusted Spending Ratio, Alaska-US (742-117-141)/265 = 1.8

Components exceed total since local transfers were $52 below US average.

Interest$2 1%

COLA $396

ExtraSpending $829

COLA $357

US Average $749

Alaska Total$2331

1977

Capital$192 49%

Alaska's Extra Spending $1225

LocalTransfers$68 6%

Other

2u r

7 19%3 %

$447 36%

Unadjusted Spending Ratio, Alaska-U.S. 2331/749 = 3.1Adjusted Spending Ratio, Alaska-US (2331-396-357)/749 = 2.1

COLA $954

ExtraSpending $3357

COLA $453

US Average $1595

Alaska Total$63F9

1987

Capital$421 34%

Interest$52 4%

Alaska's Extra Spending $4311Other

Current$1069 25%

LocalTransfers$991 23%

Payroll$974 23%

Unadjusted Spending Ratio, Alaska-US 6359/1595 4.0`Adjusted Spending Ratio, Alaska-US (6359- 954 - 453)/1595 - 3.1

Capital$509 12%

Dividend$705 16%

Interest$62 1%

The Alaska Cost-of-Living Adjustment (COLA)All our numbers are in 1988 dollars, except those in Figures 2 and 3. That adjustment eliminates the effects of

inflation so we can assess real changes in spending over time.Also, in Figures 4, 5, 6, and 9, we've added an Alaska cost-of-living adjustment (COLA) to the U.S. average

numbers. That adjustment takes into account Alaska's higher living costs and shows what the U.S. averages wouldbe at Alaska prices. We also used this COLA in Figure 3 to determine how much of per capita Alaska spending isrequired just to compensate for Alaska's higher prices.

Our cost-of-living adjustment takes into account both the higher cost of living in Anchorage relative to the U.S.average, and the higher cost of living in other Alaska regions relative to Anchorage. The 1988 COLA is 24 percent,and is based on a 15 percent differential between Anchorage and U.S. average prices, multiplied by an 8 percentdifferential between Anchorage and other Alaska prices. So, a commodity that costs $1.00 in the U.S. as a wholewill cost $1.15 in Anchorage and $1.24 in the typical Alaska community. We calculated the Anchorage-U.S.differential with U.S. Bureau of Labor Statistics information. Our calculation of the 4ifferentialbetween Anchorageand the rest of the state is based on the regional cost-of-living indexes reported in theAlaska Geographic DifferentialStudy (prepared for the Alaska Department of Administration in 1985 by The McDowell Group), weighted by theproportions of state and local government employment in each region.

No cost-of-living adjustment is perfect. This on applies most appropriately to person1 consumption and lessso to the costs of construction. We know the relative cost of construction in Alaska is higher than the relative costof labor and higher construction costs in turn increase the overall costs of government. But since labor costs aresuch an important component of government costs, this COLA is an appropriate measure of a large part of thebudget.

Text continued from page 6.

Some of the commonly held spending mythsare:

Level of State Spending

Myth: Alaska state spending only soared aboveaverage spending among other states during thepast decade.

Reality: Alaska's spending has historicallybeen far above the national average. True, the gapdid widen dramatically in the 1980sbut itstarted from a relatively high base.

With no adjustment for living costs, statespending per capita in 1967 was 2.8 times thenational average. Adjusted for Alaska's highercosts, that 1967 ratio was 1.8. (Figure 3). By 1977the unadjusted ratio of Alaska spending to theaverage of other states had increased to 3.1, andthe cost-of-living adjusted ratio was 2.1.

By 1987, unadjusted Alaska spending percapita had jumped to 4 times the nationalaverage; that ratio dropped to 3.1 times. the na-tional average with a cost-or-living adjustment.Overall, taking living costs into account, the gapbetween Alaska and U.S. average state spendingincreased moderately between 1967 and 1977 and

8

then jumped from 2.1 to 3.1 times the nationalaverage between 1977 and 1987.

Figure 4 shows that real Alaska per capitaspendingminus the effects of inflation tripledbetween 1967 and 1987, with the fastest growth in

Figure 4. State Spending Per CapitaAlaska and U.S. Average

(In 1988 Dollars)

$7000

$6000

$5000

$4000

$3000

$2000

$1000

$01967 1977

With Transfers to Local Government

1987

Alaska $2091 $3757 $6383US Avg $1143 $1781 $2057Ratio 1.63 .2.11 3.10

Without Transfers to Local GovernmentAlaska $1831 $2981US Avg $738 $1115Ratio 2.48 2.67

MI Alaska US Avg CD

Note: U.S. averages are Inflated by Alaska COLA.

$4651$1319

3.63Transfers toLocal Govt.

9

the last decade. Alaska's spending growth far out-paced the rate among other states even thoughthe U.S. average increased a substantial 80 per-cent in that same period. The U.S. averages in thisfigure and in several later figures are cost-of-living adjusted; see the text box for an explanationof what that means and why we use that adjust-ment.

The four graphs in Figure 5 show how selectedcomponents of state spending per capita changed

over those 20 years. The sharpest increase inspending per capita was in transfers to localgovernments, which grew nearly sevenfold from1967 to 1987. Spending for other current expenses(see note to Table 1) was also up dramaticallynearly fivefold. Payroll spending per capitadoubled. Capital spending per resident, which in1967 was highest relative to the national average,remained near the same level in 1987.

Figure 5. Changes in Selected Components of State Spending Per Capita(In 1988 Dollars)

Other Current Spending Per Capita

$2000

$1500

$1000

$500

$0

$2000

$1500

$1000

$500

$01987 1977 1987

Alaska $370 $889 $1750 Alaska

US Avg $212 $508 $677 US Avg

Ratio 1.75 1.76 2.58 Ratio

Payroll Spending rer Capita

$2000

$1500

$1000

5500

$0

AlaskaUS Avg

Ratio

1987

$852$2832.48

1977

$1116$3982.82

Note: U.S. averages are Inflated by Alaska COLA.

$2000

$1500

$1000

$500

$0

Local Transfers Per Capita

1987 1977 1987

$260 $778 $1732$405 $668 $7380.64 1.17 2.35

Capital Spending Per Capita

1987 1987 1977 1987

$1409 Alaska $794 $864 $697$432 US Avg $263 $185 $1883.26 Ratio 3.14 4.87 3.75

9 10

Higher Living Costs

Myth: Alaska's higher living costs largely ex-plain why the state spends three times the averageof other states.

Reality: As Figure 3 shows, the additionalamount Alaska spent to buy the same level ofgovernment as in the U.S. as a whole made uponly a small part of total Alaska spending eachyear.

Living costs here have historically been higherthan the national average, particularly in ruralareas. Today Alaska costs remain higher but thedifference has shrunk over the past 20 years asAlaska markets grew bigger and transportationbecame more efficient. This change has beenreflected in an inflation rate lower than the na-tional average for most of this time. Yet, despitethese relative declines, Alaska spending percapita continued to grow rather than decline.

Unique and Expensive Programs

Myth: Alaska's state government provides thesame services as other states.

Reality: Alaska provides many programs un-like those in any other state; it spends more forfunctions common to all the states; and it deliversservices in more expensive ways. Together, thosefactors accounted for close to 40 percent ofAlaska's extra spending per capita in 1987. (Thesum of "Other Current Expenditures" and thePermanent Fund dividend categories in Figure3.)

Most of Alaska's unique programs werecreated or expanded in the past decade. Ts?. mostobvious of these is the Permanent Fund dividendprogram, which is so large we list it in a categoryby itself in Figure 3 and Table 1. Excluding thePermanent Fund dividend program whichalone accounted for 16 percent of extra spend-ing special Alaska programs, methods ofdelivery, and the "Alaska Factor" described belowaccounted for most of the "Other Current Expen-ditures" shown in Figure 3, which made up 25percent of the extra Alaska spending in 1987.

In 1977, "Other Current Expenditures" ac-counted for about 19 percent of the extra Alaskaspending, and in 1967 14 percent. The PermanentFund dividend program didn't exist in thoseyears.

The Alaska Factor

Myth: Alaska's higher spending is mainly theresult of special Alaska cor.ditions not capturedin a cost-of-living adjustment.

Reality: The conditions that have historicallydriven up government costs here Alaska's hugesize, widely scattered communities, small popula-tion, and harsh climate still contribute to highservice delivery and construction costs in the1980s. But we would expect these factors to playa smaller role in state spending than they used to,because capital spending as a proportion of totalstate spend;ng has declined sharply while trans-fers to individuals have increased substantially.

The cost of the "Alaska, Factor" is included in'Other Current Expenditures" in Figure 3.

Transfers to Local Governments

Myth: Alaska's local governments becamefinancially more independent in the 1980s as theirtax bases grew.

Reality: Tax bases of urban governments inAlaska did increase sharply in the first half of the1980s, but at the same time they cut tax rates,expanded services, and became more dependenton state aid. Transfers to local governments ac-counted for 23 percent of Alaska's extra spendingin 1987, as compared with 6 percent in 1977. In1967 transfers to local governments were belowthe national average, and do not appear in Figure3.

Figure 6 shows that real per capita local spend-ing (minus the effects of inflation) quadrupledbetween 1967 and 1987. That big increase inspending was attributable to two major factors:fast growth in local tax bases, particularly inAnchorage and other urban areas, which boostedlocal property tax revenues even as tax rates werebeing reduced; and sharp increases in state aid.

Figure 6 also shows that in 1967 real per capitaspending by Alaska local governments was 30percent below the national average and by 1977just 10 percent above. By 1987, however, percapita spending by Alaska local governments wasnearly double the average of other local govern-ments. The pie to the left of the 1987 bars inFigure 6 shows what the extra spending (abovethe national average) was for: half was for capital

10

projects; 25 percent was for payroll costs; 13 per-cent was for interest on bonded debt; and the final11 percent was for a variety of other current ex-penses.

An increasingly expensive function for localjurisdictions in recent timhas been elementaryand secondary education. Prior to the 1970s, thecosts of public education for Alaska's Nativepopulation were borne primanly 'by the federalgovernment. Locally controlled Regional Educa-tion Attendance Areas (REAAs) were created tooperate the dozens of new schools builtthroughout niral Alaska in the 1970s and 1980s,and the former Bureau of Indian Affairs (BIA)schools that were transferred to the state. Thestate pays all the costs of those rural districts, andmore than two-thirds of the costs of urban ones.The state also reimburses school districts for 80percent of the principal and interest costs onbonds sold to finance school construction. Finally,also adding to the increased cost of schooling inAlaska in the 1980s was the fact that school-agechildren made up an increasing proportion of thepopulation.

More Workers and Higher Pay

Myth: Alaska spending is high mainly because

Figure 6. Local Spending Per CapitaAlaska and U.S. Average

(In 1988 Dollars)

$7000

$6000

$5000

$4000

$3000

$2000

$1000

50

Extra Local SpendingCapital

Current61ijkOther

$189 11% V., T..

$420 25%

Interest.$229 13%

1967 1977 1987

Alaska $906 $2036 $3693US Avg $1288 $1843 $1991Ratio 0.70 1.10 1.85

Alaska 0 US AvgNote: U.S. averages are Inflated by Alaska COLA

the government has too many workers who arepaid too much.

Reality: Alaska's payroll costs determinJby the number of workers and their payac-counted for 25 percent of Alaska's extra spendingin 1987, which was less than the 36 percent payrollcosts contributed in 1967 and 1977. That meansfast growth in overall state spending outpacedgrowth in payroll spending.

Even though the proportion that payroll con-tributed to higher costs declined, the per capitaspending for State payroll increased sharply from1967 to 1987. (Figure 5.) Real per capita spending(minus the effects of inflation) for payroll costsmore than doubled between 1967 and 1987. (Thebenefits portion of personnel costs appear in the"Other Current Expendit:ires" category in Figure3.)

Myth: State employment is a lot higher than itused to be.

Reality: Yes and no. As Figure 7 shows, therewere about 50 percent more state workers perresident in 1987 than there were in 1967-382workers per 10,000 residents as co -apared with250 per 10,000 residents. So yes, Alaska did add alot of state workers over the past 20 years.

But notice that in 1987 the ratio of Alaskaworkers to.the U.S. average was about the sameas it had been in 1967. In both years, Alaska hadabout 2.6 times the national average of stateworkers per 10,000 population. State employ-ment intensity peaked in the early 1980s at theheight of the state spending boom, but declinedabout 14 percent between 1982 and 1987.

In part Alaska has always had more workersper capita because that is the nature of sparselypopulated states; delivering services requires acertain number of government workers, whetherthe population is relatively larger or smaller.Also, the state government here has traditionallyprovided a number of services that in other statesare provided by local governments. However,state employment per resident did not decline aslocal government employment increased, as wemight have expected. Nor did economies of scaleassociated with the state's large populationgrowth over the past 20 years become apparent.

Myth: Local government employment soaredalong with local government spending in .the1980s.

11 12

Figure 7. State Government Jobs*Per 10,000 Population

500

400

300

200

100

"AlaskaUS AverageRatio

87 72 77 82 87

250 380 374 442 38298 119 134 133 143

2.66 3.02 2.79 3.32 2.87

MI AlaskaJobe are full-time equivalent.

0 1.18 Average

Reality: Local government employment didincrease 70 percent between 196 / and 1987 (Fig-ure 8.) But during the same period local spendingquadrupled. (Figure 6.) So it's clear that much ofthe bigger local spending went into capitalprojects and other things that did not require asmany new workers. Also, as we mentioned above,the rural school districts known as RegionalEducation Attendance Areas (RF,AAs) were es-tablished in the 1970s. Some of the new localemployment in rural areas is school employment.

Notice that in 1967 Alaska local employmentwas 25 percent below theaverage for other states:Alaska had 217 local workers for every 10,000residents, as compared with the national averageof 287. By 1987, Alaska local employmentdespite vigorous growth was still just 4 percentabove the national average: Alaska local jurisdic-tions had 368 workers per 10,000 population, ascompared with the average of 353 for localgovernments elsewhere. Local employment in-tensity in Alaska was higher in the early 1980s, butdeclined about 3 percent between 1982 and 1987.

Part of the reason why Alaska local employ-ment in the 1980s is so close to the national norm,while state employment is so much higher, is thateven today many areas of rural Alaska have onlyminimum local government structures, and thestate and federal governments provide numerouslocal services.

Myth: State government wages are just highenough to cover Alaska's higher living costs.

Reality: State government wages more thancompensate for higher living costs. Figure 9 showsthat in 1987, even after adjusting for Alaska'shigher costs, state workers on average earned 25percent mt. re than state workers elsewhere.

In the 1960s, by contrast, when Alaska livingcosts were much higher relative to the nationalaverage, higher Alaska government wages die justabout cover higher living costs. By 1977, real Alas-ka government wages had moved to about 8 per-cent above the national average.

Part of the reason why Alaska state wages in1987 were above the national average is that therewere substantial wage increases over the past 20years. But those increases came mainly at twotimes: during the pipeline boom of the mid-1970s,and during the peak of the state spending boomin the early 1980s.

The severe Alaska recession in the late 1980shas held down government wages. But Alaskastate workers are still doing better relative to stateworkers elsewhere because the recession alsoheld down prices here. So in the past few yearsinflation in Alaska has been lower than the na-tional rate, and buying power in Alaska has not

Figure 8. Local Government Jobs*Per 10,000 Population

600

400

300

200

100

87 72 77 82 87

Alaska 217 278 304 379 388US Average 287 323 351 335 353Ratio 0.78 0.88 0.87 1.13 1.04

ESE Alaska CD U8 Average*Jobs are full-the equivalent.

12 13

Figure 9. State Government Wage*(In 1988 Dollars)

$3600

$3000

$2500

$2000

$1600

$1000

$600

$067 77 87

Alaska 32378 $2893 $3319US Average $2322 62485 82852Ratio t02 t08 t25

OM Alaska ED US Average

*Average October earnings, full-time employees; excludesbenefits.Note: U.S. averages are inflated by Alaska COLA.

been eroded as much. Alaska's relatively highwages are of course not confined to governmentand are in large part the legacy of numerouseconomic booms.

Permanent Fund Dividend Program

Most Alaskans know that their annualdividends come from the earnings of the Per-manent Fund.

What they may not realize is that in calculatingthe difference between Alaska and nationalaverage spending, the federal government countsthe dividend payments as part of state spending.In 1987 those payments accounted for 16 percentof Alaska's extra spending. The program did notexist in 1977 or 1967. Whether we want to admitit or not, Permanent Fund dividends are a newand major source of state spending.

Capital Spending

Myth: Alaska can develop its infrastructurewithout adding to the costs of government.

Reality: Capital spending, like other kinds ofspending, adds to Alaska's higher costs of govern-ment. It increases cash outlays and indebtedness,and usually adds other costs for operating andmaintaining the new facilities and improvements.

In 1967, overall state spending was much lowerthan it is today, and at that time capital spendingaccounted for half of Alaska's extra spending percapita. By 1977 this capital spending accountedfor about a third of the extra. But in 1987, a yearwhen the state capital budget was smaller com-pared with the other spending components, capi-tal spending added just 12 percent to Alaska'shigher per capita costs. What does not show uphere, but which we know did happen in the 1980s,is that capital spending by local governmentswith state grants -- replaced some state capitalspending.

A less obvious cost of capital spending isoperating and maintaining the new facilities afterthey're constructed. Since Alaska does not buildthe cost of operating and maintaining new z..ndimproved capital stock into the cost of construc-tion, it is not surprising that those operation andmaintenance costs also push up the state budget.Those higher operation and maintenance costs(unless they are deferred) show up as part of thegrowing "Other Current Expenditures" categoryin Figure 3 and Table 1.

Myth: Alaska paid as it went for capitalprojects, and therefore did not incur much newdebt in the 1980s.

Reality: That would appear to be true, if welook only at the fact that interest on generalobligation bonds contributed just 1 percent toAlaska's extra spending per capita in 987, ascompared with 4 percent in 1977 and almost noth-ing in 1967. (Figure 3.) We know that the statepaid outright for hundreds of capital projects inthe early 1980s.

However, Alaska's municipalities and schooldistricts incurred a great deal of new bonded debtin the 1980s. The state government pays most ofthe costs of school debt. Figure 6 shows the extradebt burden of Alaska local governments; someof that debt is paid by state transfers.

And at the same time, the state's public cor-porations particularly the Alaska HousingFinance Corporation were taking on billions ofdollars in bonded debt, on which they payhundreds of millions of dollars a year in interest.

13 14

Those interest payments aren't reflected in Fig-ure 3, because they 'ome out of corporation fundsrather than general fund revenues. Nonetheless,the good credit of the Alaska treasury stands be-hind those loans.

Free Government

Myth: Alaskans carry a heavy tax burden forthe services we get.

Reality: Alaskans pay low state and local taxesrelative to other Americans. Alaska has no statepersonal income or sales tans, and local proper-ty tax rates although they have risen in the pastfew years are still often lower than they were inthe 1970s. Also, Alaskans receive cash paymentsfrom the state under the Permanent Funddividend and Longevity Bonus programs. In manycases, payments Alaskans receive outweigh thestate and local taxes they pay.

Finally, the state widened eligibility fora num-ber of programs in the 1980sso that regardlessof need or income, Alaskans could borrowmoneyat belov-market rates, get subsidized homemortgage loans, and qualify fora number of otherspecial benefits. The fact that individual Alaskanspaid little for government and received hand-some benefits from it certainly encouraged bigspending growth in the 1980s.

Between a Rock and a Hard Place

The discussion above reveals that therewas nosingle culprit responsible for Alaska's higherspending in the 1980s. And it's apparent that thenew and different ways the state spent its moneyin the past decade have becomevery important tolocal governments, school districts, and in-dividual Alaskans, among others. Even if all Alas-kans agreed on the necessity for reducing statespending (which not all do) we would still con-front difficulties and complexities in decidinghow to cut state spendingor add taxes to close theprojected state fiscal gap. Proponents of budgetcuts must consider the following:

1. Special Interests: It may be no exaggerationto say that every state expenditure has its con-stituency and many have lobbyists and PACs(political action committees) as well. Each of

these constituencies has very direct and oftensubstantial economic interests in seeing par-ticular kinds of state spending continued. Theseconstituencies organize and devote time, effort,and money to protecting their interests. Collec-tively, these special interest groups tend to over-power any ill-defined or unorganized publicinterest in fiscal restraint, including legislativecommitment to that restraint.

2. Economic Dependence: More than one infour jobs in Alaska can be traced to state and localgovernment spending. Major cuts in state spend-ing will inevitably reduce income and eliminatejobs. And depending on how the cuts are made,some regions of the state will feel the effects morethan others. Last winter ISER analyzed for thegovernor's Office of Management and Budget thepotential impacts on the economy of a $350 mil-lion across-the-board cut in the state's budget.That report documented the widespread effectsof such a cut, and it had a chilling effect on legis-lative resolve to cut the budget.

3. Economic Climate: Alaska's severe reces-sion in the late 1980s took a heavy toll on theeconomy. We lost jobs and population. Banksfailed. Businesses and individuals went bankruptin unprecedented numbers. Property valuesplummeted and thousands of homes went intoforeclosure. Local governments realized heavytax losses as property values fell. Having seensuch losses in the past few years, Alaskans under-standably are not receptive to either reduced aidand services or increased taxesboth of whichwill reduce income and employment.

4. Financial Dependencies: Municipalitiescame to rely on much higher state aid in the 1980s.The state has already begun to reduce some ofthat aid; between 1986 and 1988, for instance, thestate cut municipal operating aid nearly 30 per-cent. And even as state aid began to decline, the1985.38 recession slashed property values andreduced local tax bases. So urban local govern-ments that expanded services and cut propertytaxes in the 1980s now find themselves withsmaller tax bases, less state money, and voterswho have refused to approve just about allproposed new taxes. Rural municipalities mostof which have very small or non-existent tax

14

15

bases are in an even more precarious positionas state aid drops.

Similarly, urban school districts also came todepend on more state money in the 1980s. Thestate's school foundation program, which paysmost of the costs of urban schools, grew rapidly.Also, the state pays 100 percent of the capitalcosts of REAAs and reimburses the other schooldistricts for 80 percent of the principal and inter-est payments they make on bonded debt. Statereimbursement of school construction debtmushroomed from $38 million in 1982 to $109million in 1988. That debt reimbursement is apolicy that the state legislature can change anytime it chooses. But to do so would transfer thelegal obligation to repay that debt to local proper-ty taxpayers who would certainly be unreceptiveto such a move.

5. Unwillingness to Pay: Alaskans in the 1980sbecame used to paying low state and local taxes.The state personal income tax, which provided 24percent of state revenues in 1977, was repealed in1980, and property taxes were cut in manymunicipalities in the early 1980s. In the face offalling state aid and reduced tax bases, localgovernments have raised property taxes in thelate 1980s. Still, in 1987 Anchorage residents paidthe lowest state and local taxes among big cityresidents around the country. But coming out ofa severe recession and having become accus-tomed to low taxes; voters have said no to virtuallyall moves to raise taxes.

6. Increasing Demands: Even though Alaska'spopulation declined during the recession, ISERforecasts moderate population growth one totwo percent a year in Alaska during the 1990s.A growing population will put increasingdemands on a shrinking budget. Furthermore, thesegments of the population expected to grow thefastestschool-age kids, the elderly, and resi-dents of small, rural places are also the mostexpensive to serve. So, while overall populationgrowth will be moderate, groups that are expen-sive to serve will be growing fast, creating pres-sure to increase rather than decrease statespending.

There will also be new demands for state ser-vices unrelated to population growth. Some willbe mandated by the federal government, as is thecase under the federal welfare reform require-

ments. Others will result from developments wecan't predict.

Even political pressure to reduce the federaldeficit could shift federal program respon-sibilities on to state and local governments. Infact, such transfers of responsibility have been afact of life over the past 20 years.

7. Expensive Service Delivery: The state in thepast decade created some service delivery sys-tems that give local residents more control, butwhich are also more expensive. For example,before the 1970s, rural Native students whowanted to attend high school had to leave theirvillages for regional boarding schools. But overthe past decade, the state established a whole newsystem of rural school districts--the RegionalEducation Attendance Areas (REAAs). Thosedistricts are directed by locally-elected boards butaze paid for entirely with state money and are ofcourse a lot more expensive that the old ruralschool system. Similarly, creation of a host of localor regional offices and advisory boards for variousstate programs all contribute to an expensive sys-tem of delivering state services in rural areas.However, efforts to re-centralize these services islikely to encounter strong resistance from theaffected regiortg.

8. Sacred Cows: The Permanent Funddividend program, established in 1982, has be-come in its brief history an important force in theAlaska economy and, in the minds of many Alas-kans, an entitlement program. ISER reported in1989 that Permanent Fund dividends accountedfor 7 percent of personal income in rural Interiorareas and created more than 2 percent of all jobsin the Alaska economy. Aside from the economicforce of several hundred million dollars going intothe Alaska economy each year, the dividend pro-gram has become to many Alaskans an entitle-ment program akin to various traditionalprograms that are unlike the dividend pro-gram based on need or personal contributions.The Longevity Bonus program, which makesmonthly payments to Alaskans over 65, irrespec-tive of financial need, is another popular andentrenched state program. Legislative efforts' totamper with either the Permanent Fund dividendor the Longevity Bonus program have been metwith anger and indignation. Other free or low-costbenefits include subsidized loans; capital projects

15 16

not financed by general obligation bonds but bydirect state grants; and subsidized electric ratesfor rural residents.

In 1987 the dividend program and other spe-cial programs were responsible for something inthe neighborhood of 40 percent of the extraspending per capita that Alaska does relative tothe U.S. average. Reducing, much less eliminat.-ing, these sacred cow programs is likely to beregarded as political suicide.

9. Contingent Liabilities: Even while thestate was paying outright for hundreds of capitalprojects, the state's public corporations (mostnotably the Alaska Housing Finance Corporationbut others es well) were taking on billions ofdollars in bonded debt. That debt is "Currently paidfor through funds of the corporations. But shouldthe corporations ever be unable to meet theirobligations, the creditworthiness of the statewould be affected. Eliminating the financialreserves of these corporations to raise currentrevenues could jeopardize their solvency.Municipal and school debt also represent contin-gent liabilities.

10. Wage Reduction Resistance: Alaskansincluding both government workers and many inprivate industry have grown used to wages that

are higher than the national average, even afteran adjustment for Alaska's higher living costs.Despite the downward pressure that the recentrecession put on wages, in 1987 Alaska govern-ment wages remained 25 percent above the na-tional average, after a cost-of-living adjustment.Even though higher payroll costs are responsiblefor about a quarter of Alaska extra per capitaspending relative to the U.S. average, Alaska'spublic employees are well-organized and are notlikely to willingly accept wage reductions to helpreduce state spending.

11. Easy Cuts Behind Us: The state has al-ready made what could be called the "easiest"budget cuts largely cuts in capital spending. Ithas also cut back on aid to municipalities whichit had increased so much in the halcyon days ofthe early 1980s. The kinds of cuts the state mustnow consider are ones that will have a more directeffect on services or benefits.

To challenge the notion that Alaska need notcut state spending ir2t simply raise revenues, thenext paper in this series analyzes the history ofstate revenues and the capacity of the economy tosupport additional taxes for state, and localgovernment.

ouIt is easier to make a suxestion than to carry itt.

Aesop's Fables

ISER Fiscal Policy PapersInstitute of Social and Economic ResearchUniversity of Alaska AnchorageE. Lee Gorsuch, Director3211 Providence DriveAnchorage, Alaska 99508

Non-Profit Org.U.S. Postage

PAIDAnchorage, Alaska

Permit No. 540

1716